The mindless optimism that has infected markets in America this week – has enabled big U.S financial companies to binge like John Prescott… but on fund-raising… not cakes. Between them, they have raised more than $28 billion, which suggests that many investors believe the sector is poised for a strong comeback.

Just yesterday, we saw Merrill Lynch raise $7 billon — and that was after it raised $2.5 billion from a preferred share sale on Monday. Merchant bank Goldman Sachs and the commercial finance group CIT each raised $1.5 billion. On Monday, Citigroup raised $6 billion in new capital through a sale of preferred shares. Ditto with JPMorgan Chase last week…

There are obviously a lot of investors out there who are convinced that the U.S. financial industry is poised for a strong comeback. Citigroup’s chief executive, Vikram Pandit, has added his voice to the chorus of Wall Street bankers arguing that the worst of the credit crisis was over. “We are closer to the end” than the beginning of the crisis, he said at a shareholder meeting in which he and his fellow directors were criticised for the company’s recent performance.

Of course, given his circumstances, saying that there was worse to come couldn’t really have seemed like an appealing option. Then again, he might have been expressing an entirely honest view — in which case we think that he is dead wrong.

Here at Profit Hunter, we think that investors betting on a quick turnaround in the U.S. financial sector are setting themselves up for a massive hit. There is a lot more bad news to come.

What we need to remember about the current financial crisis is its roots in the U.S. sub-prime debacle. Huge numbers of people bought houses that they couldn’t really afford with money that they didn’t actually have in the hope that house prices would just keep on rising. They didn’t.

U.S. house prices nationwide have already fallen by an average 15 per cent since their peak in 2006, leading to wave of defaults on mortgage payments. Investors who bought the securities backed by those mortgages have taken massive losses as their values plummeted. Simply put, the health of the U.S. financial system is closely tied to the performance of the property market. And I believe that things are going to get a lot worse on that front, which rules out any quick and sustained recovery in the U.S. financial markets.

You see, the highly respected Yale University economist Robert Shiller predicts that there is a good chance that U.S. house prices will fall further than the 30% drop during the 1930s Great Depression. Shiller is a big name in property economics – he developed the widely watched Standard & Poor’s/Case-Shiller home price index. By Shiller’s estimation U.S. house prices rose by about 85 per cent from 1997 to their peak in 2006, after adjusting for inflation. That was the biggest national housing boom in US history, so the fall could be just as historic, Shiller predicts.

It doesn’t sound very promising, but George Bush offers this bit of encouraging news: “We’re not in a recession,” he told reporters at a news conference in with the leaders of Canada and Mexico. “We’re in a slowdown… there’s no question we are in a slowdown.”

Between a rock and hard place…

The Federal Reserve is expected to try to do something about that “slowdown” when it meets next week. Another interest rate cut seems to be on the table. But, as I have pointed out in this newsletter before, the real danger with this spate of rate cuts is that they may simply end-up fuelling inflation while doing very little for the economy.

We may already be at that point. The National Association of Realtors, Lawrence Yun, is now warning that further rate cuts might actually drive mortgage rates higher as financial markets begin to worry more about inflation. Listening to Larry Yun makes me feel a twinge of pity for Ben Bernanke. It can’t really be fun being the head of a central bank right now; particularly not the Fed.

Whether the debacle we are now seeing in America will be played out on this side of the Atlantic as our own housing bubble deflates, I honestly don’t know but our investment strategy at Profit Hunter is clear. We are staying away from the U.S. and most U.K shares. Instead we are sending our money to sunnier climes.

In fact we’ve been helping our readers send their money to sunnier climes for years – as we have hunted down the best profit opportunities across the emerging markets

One such market I’ve got my eye on looks about to take a very lucrative turn. Calling the bottom of a market is a very tricky business… at present we’re looking at one such market that is as close to the bottom as I’d care to call. I firmly believe that it’s about to shoot up and make everybody who gets in now very happy. Find out what exactly I’m talking about – and where in the market you should have your money by clicking here right now.

All the best

Manraaj Singh

Editor

Profit Hunter

The government is living in fantasy land. The supply of new homes could easily be increased – if only the government’s own policies were not so unrealistic.

Let’s start with the planning process. At present plans have to be submitted to the local planning officer, an overworked individual whose morale is not helped by the knowledge that he could be earning twice as much in the private sector. If he approves a plan then it must be put before the planning committee, a group of local busybodies who can choose to accept or reject the plans just as they like. There seem to be no rules. There is nothing to say that if every box has been ticked then the plans must be approved. If the committee does not like them, if perhaps the chairman happens to live next door to the proposed development, then it will get the thumbs down and that is the end of it.

John Prescott, in an excellent illustration of utter stupidity, tried to do something to speed up the process. He gave money to any planning office that dealt with an application within thirteen weeks. But rather than ensure that all applications were properly reviewed in that period, planning officers simply dropped the guillotine upon them after twelve weeks and six days, just to get Prescott’s money. Money that, by the way, did not go back into the planning department but was simply dropped into the yawning coffers of the local authority.

Then we have Section 106. Under this rule local authorities can, as a condition of giving planning permission, demand contributions towards local amenities. This is to spent on parks, playgrounds, schools – the latter even if the proposed development is of an old person’s home and brings no new children into the area – and hideous stone eyesores that only serve to demonstrate why the local sculptor cannot make a living without handouts from the public purse. Developers are blackmailed. They need to get on and build. They want to get through the planning process as quickly as they can. So if at the eleventh hour they are asked to chip in a few more thousand towards a new merry-go-round they are inclined to give in. No other industry is held to ransom in this way. Some builders are starting to ask whether it is even legal.

Builders have long been resigned to the demands of the conservation lobby. The Dartford Warbler and the Great Crested Newt have held up many a planning application, as has the white-clawed crayfish. Recently I met a developer who told me how he had been required to preserve an old radiator and some wall-paper contained within a Gothic abbey that he was converting. But what is really upsetting the whole economics of house building today is the requirement for social housing.

Bringing down the neighbourhood

Any development of more than nine dwellings must devote half of this to social housing. This is council housing by another name, and must be built at between 45% and 55% of its market value – effectively the build cost. Because this is basically subsidised by the profits from building homes for private sale, this insistence upon social housing pushes up the price of the former or else renders some proposed developments uneconomic.

Here in Oxford a proposed development of eighty-five new homes has been abandoned for this very reason. In its misguided desire to engineer cohesive ‘local communities’ (how I hate that phrase!) the government insists that social housing is mixed in with private housing. This is known as ‘pepper-potting’ and has led to horrendous incidents where private home-owners are mugged and otherwise abused by their socially-housed neighbours. This of course has the effect of reducing the value of the private housing, undermining the economics of any new project.

Now, as if all this were not enough, house builders are faced with the cost of the government’s latest vote-winners. In an attempt to keep the elderly out of publicly-funded care homes it has said that in future new homes must be built with downstairs bathrooms, staircases that can accommodate stair-lifts, entrances and hallways wide and flat enough for wheelchair access, and ‘bathrooms planned with side access to toilet and bath’ – whatever this means. All this is regardless of whether or not an elderly person is actually likely to live there.

This additional cost comes on top of Gordon Brown’s commitment that within then years all new homes will be ‘carbon neutral,’ meaning solar panels, wind turbines, pipes to suck hot water up from the earth’s core, triple glazing etc.

This crowd pleaser will add £30,000 to the cost of a new home, and when added to the requirement for social housing and the expensive demands made under Section 106, it will mean that a developer of a one hectare plot will be committed to shelling out £2m-£3m before he can even think of making a profit on the basic business of building private homes. At the typical plot density of forty homes per hectare this means that every buyer of a private home is making a £50,000 contribution towards government initiatives.

There could be even worse to follow if the mooted plan to levy capital gains tax on the uplift in value that follows planning permission is introduced. But even as things stand the hopeless morass that is the planning process and the cost and social impact of the government’s own policies, means that its targets for new homes are just pie in the sky.

Until next time,

Tom Bulford
for The Penny Sleuth

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